Better Buy: Square vs. American Express

Amid the market volatility, two financial services companies held investor presentations in the past several weeks. Digital payments ecosystem Square (SQ 0.51%) and financial services company American Express (AXP -0.31%) provided updates on the current market situation, and, more importantly, their long-term growth plans.

Both companies play in the financial services sector, but they are at different points in their growth cycles and appeal to different kinds of investors. Let's dive into the details and make a determination as to which is a better buy today.

The companies at a glance

American Express was founded more than 150 years before Square, but it is only three times Square's size in market capitalization. For dividend and value-minded investors, the financial stalwart boasts almost a 2% yield and incredible bottom-line profits.

Data from company SEC filings and Yahoo Finance. Table by author.

But Square is growing faster and has more growth opportunity.

The case for Square

Square's stock has gotten slashed recently as small shops are suffering under shelter-in-place and closure orders for non-essential businesses. In its investor day meeting, company management indicated payment transactions have declined in March, lowered its guidance for the first quarter by about 2%, and retracted its outlook for the full year. Investors shouldn't be surprised, as it is really impossible to say how this outbreak will affect its business for the short term. But for the long term, the future is bright.

Image source: Getty Images.

The company has grown through providing payment tools and an ecosystem for small businesses and entrepreneurs worldwide. But this innovative fintech has quietly added a second ecosystem for individuals around its Cash App. The Cash App allows individual users to initiate person-to-person payments, act as a bank account or credit card, buy stocks, and even process bitcoin transactions. Since its release in 2017, this has become a $1.1 billion annual revenue business, growing 157% from 2018. Square's brand and powerful easy-to-use software has been able to stand up this segment in record time and adds another $60 billion to its market opportunity.

In 2020, Square will start reporting its business in two segments, seller ecosystem and Cash App. Combined, these two opportunities provide a $160 billion addressable market. As for short-term viability concerns, there really aren't any. It had over $1 billion in cash and cash equivalents as of its last quarterly earnings report. After adding a recent $1 billion debt offering, the company is flush with cash to deal with an extended length of reduced economic activity or even a recession.

The case for American Express

American Express serves as a premium credit card offering for affluent consumers and cards and services for small and large corporate businesses. It has an incredible brand and, as a result, can charge more than its larger competitors. But in 2017, its revenue growth declined due to increased competition in the premium space and losing its long-time partnership with Costco Wholesale. After that difficult year, longtime executive Stephen Squeri took over as CEO in February 2018 and set a course for returning to growth.

Squeri's focus and efforts to right the ship have paid off. Since he took over, the company has executed eight quarters of 9%-plus currency-adjusted revenue growth and adjusted earnings-per-share growth of 13% and 12% for 2018 and 2019 full-year results. It is the No. 1 small business card issuer in the U.S.. It serves over 60% of the Fortune 500 with its corporate expense cards, and its consumer cardholders spend about three times that of other networks.

For growth, it is focused on what it does best -- serving the premium consumer, strengthening its strategic partnerships, and expanding its presence internationally. Even though it is seeing weakness in its first-quarter billings, its $24 billion in cash and cash equivalents will allow the company to weather even an elongated downturn.

The bottom line for investors

Looking at the valuation metrics for both companies, Square stands out as being significantly more expensive than the premium credit card issuer. But Square is more innovative, more nimble, and has more growth opportunities ahead than the 170-year-old financial services company and is worth the premium price as a leading figure in the war on cash. 

Data source: Yahoo Finance Note: Share prices as of March 30.

Square will likely face a longer road back, as this pandemic may drive some of its customers to close up shop, resulting in lost revenue for the payments processor. This uncertainty could make some investors lean toward the kind of stable dividend and steady returns of a stock like American Express. But if you're looking out over the next five to 10 years, Square is the better buy and will provide a more lucrative return for patient shareholders.